A business owner may have several options in transferring the business. The tables below describe the different types of transactions to insiders as well as transactions involving third parties.
| Inside Transactions | Outside Transactions |
|---|---|
| Intergenerational Transfer | Sale to a Third Party |
| Management Buyout (MBO) | Recapitalization (Recap) |
| Sale to Existing Partners | Orderly Liquidation |
| Sale to Employees (ESOP) |
Intergenerational Transfer
The owner transfers the stock to direct heirs, usually children. 50% of business owners want to exercise this option – in reality, only about 30% actually do so.
| PROS: | CONS: |
|---|---|
| Business legacy preservation | Family dynamics |
| Planned | Lack of funds/Illiquid buyers |
| Lower cost | Lower sale price |
| More control | Key employee flight risk |
| Less disruption | Tradition may outstrip good strategy |
| Higher buyer/seller motivation | Path of least resistance – but not always a path to growth or success |
Management Buyout (MBO)
The owner sells all or part of the business to the company’s management team. Management then uses the assets of the business to finance a significant portion of the purchase price.
| PROS: | CONS: |
|---|---|
| Continuity | Distraction |
| Highly motivated buyers | Threat of flight (coercion of owner) |
| Preserves key human capital | Illiquid buyers / Heavy Seller Financing |
| Planned | Lower price and unattractive deal terms |
| Can be combined with private equity for additional growth resource | Managers are not always good entrepreneurs |
Sale to Partners
The success of this option may be closely linked to the existence and quality of a buy-sell agreement. It is of course, not an option for single owner businesses.
| PROS: | CONS: |
|---|---|
| Less disruptive | Distraction |
| Planned | Lower sale price |
| Well-informed buyers | Potential discord |
| Controlled process, if buy/sell agreement in place and funded | Competency gaps? |
| Lower transactions costs | Realization of proceeds is often slower |
Sale To Employees through an Employee Stock Ownership Plan (ESOP)
Generally suited for a gradual exit where the Company uses borrowed funds to acquire shares from the owner and contributes the shares to a trust on behalf of the employees.
| PROS: | CONS: |
|---|---|
| Business stays in the “family” Shares purchased with pre-tax dollars |
May be more complicated and expensive than other options |
| Taxable gain on ESOP shares may be deferred | Requires securities registration exemption |
| ESOP is an employee benefit | Company compelled to buy-back shares from departing employees |
| Often causes employees to think more like owners | Generally suited for a gradual exit |
Sale to a Third Party
The Owner sells the business to a strategic buyer, financial buyer, or private equity group through a negotiated sale, controlled auction, or unsolicited offers.
| PROS: | CONS: |
|---|---|
| Higher price (highest of the options) | Long process (9-12 months) |
| More cash up front | Distraction and loss of focus |
| Walk away faster | Privacy concerns |
| Stability of deal terms | Emotional for owner |
| Business refresh (growth, new energy) | Post sale tie-downs |
| Cost-effective | Highest cost option (highest benefit) |
| Breaks deadlock at management level with family | Very complex – approx. 1,000 professional hours Can be difficult to close |
Recapitalization
Essentially this option brings in a lender or equity investor to act as a partner in the business. The Owner can sell a minority or majority position in the business although most times, the equity partner wants control of the business.
| PROS: | CONS: |
|---|---|
| Allows partial exit | Continuing accountability to partners |
| Reduces owner risk – diversifies assets | Loss of control |
| Provides growth capital | Culture shift |
| Second bite at the apple | Slow transaction |
| Works well with other exit options | Expensive relative to benefit |
Orderly Liquidation
The business is shut down through a simple, quick process. This makes sense if asset values exceed the ability of the business to produce income required to support an investment.
| PROS: | CONS: |
|---|---|
| Good option when asset value exceeds value of going concern | Uncertain proceeds – no guarantee No compensation for goodwill |
| Sum of the parts are greater than the whole Efficient way to exit |
Emotional Stigma of “closing” the business. |
| May be less expensive than other exits | Damage to employees and jobs May be higher tax (C-corporations) |